Why Has CEO Pay Increased so Much?
47 Pages Posted: 31 Oct 2008
Date Written: July 2006
This paper develops a simple equilibrium model of CEO pay. CEOs have differenttalents and are matched to firms in a competitive assignment model. In market equilib-rium, a CEO s pay changes one for one with aggregate firm size, while changing muchless with the size of his own firm. The model determines the level of CEO pay across firms and over time, offering a benchmark for calibratable corporate finance. The six-fold increase of CEO pay between 1980 and 2003 can be fully attributed to the six-foldincrease in market capitalization of large US companies during that period. We find a very small dispersion in CEO talent, whichnonetheless justifies large pay differences.The data broadly support the model. The size of large firms explains many of the pat-terns in CEO pay, across firms, over time, andbetween countries. (JEL D2, D3, G34,J3).
Keywords: Executive compensation, wage distribution, corporate governance, Roberts law, Zipf s law, scaling, extreme value theory, superstars, calibratable corporate finance
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